Term Sheet Analysis

1

Venture Capital Transactions

Evolution of Venture Capital Deals

• Venture capital deals have evolved significantly since the ‘heyday’ of the late 1990s

• Term sheets were once very favorable to the entrepreneur as a number of VCs competed for Series A deals

• Post the ‘internet bubble’, the pendulum swung in favor of the VCs and have pretty much stayed that way to-date

2

Negotiating and Structuring the Deal

• Revolves around the type of equity and terms of the security

• Typical equities of a VC deal: – Preferred stock: the equity of choice for VCs

– Convertible debt: • Fixed returns and tax advantages

• Used for higher risk investments

• Bridge financing to equity raise (then converted)

• May be subordinated to allow institutional debt

Additional Equity Types • Debt security with warrants:

– Debt protects downside with fixed return

– Warrants protect upside by allowing stock purchases at discount

– Allows stock purchase without sacrificing preferred position as a creditor

• Common Stock – Rarely used by VCs

– No special rights or preferences, no fixed returns, no control, no liquidity to protect downside

3

After Security Is Agreed

• Authorization and issuance in accordance with state laws

• May require charter amendments, requiring board and shareholder approval

• Negotiate rights, preferences, privileges: – Voting rights, dividend rate

– Redemption, conversion, liquidation preferences

– Anti-dilution, pro rata rights

Summary – Venture Capital Deals

• Have evolved significantly since the late 1990s

• Term sheets more in favor of VCs due to tighter capital markets and more deals looking for VC money

• Various equity forms may be used, but preferred stock is most common

• Equity structure may require charter amendments